The reporters and the investor chat-rooms focused on the two-day wonder part of the story. Instead, let us look at the considerable implications for graphite in the (much) longer term.

First, the facts. Australian listed company Syrah Resources called a trading halt Thursday pending an announcement. Picking up Friday’s newspaper, we saw what that announcement would be: China’s state-owned Chinalco was talking to Syrah about an off-take agreement from the latter’s Balama graphite project in Mozambique. Chinalco is the world’s third largest producer of aluminium. (Set aside for the moment the indication in the report that this will be a memorandum-of-understanding; the binding off-take agreement would be expected to follow. Given what follows, that agreement should, indeed, follow; but few things are certain in this life, and any MoU with Chinese companies definitely are not one of the few certainties. You can walk away from a MoU.)

Then came the official confirmation: Chinalco has signed an MoU to take between 80,000 and 100,000 tonnes of graphite (and some vanadium). A legally binding agreement would, the company said, be negotiated within three months.

The market liked the news, given that it covered more than a third of Syrah’s planned annual production of 220,000 tonnes, and the stock closed 13.75% up on the day —but it was interesting that stock in its neighbour in Mozambique (and on the Australian Securities Exchange), Triton Minerals, did even better, was up 15.3%. With Syrah stock at A$3.30 and Triton’s at A$0.105, the huge disparity remains.

That was the market reaction. But the most significant aspect of this development is Chinalco itself (its formal name is Aluminium Corporation of China). At present, it uses petroleum coke and anthracite to make the carbon building block, the anode blocks that conduct electricity in the aluminium smelting process. As the newspaper report said, “it is presumed that Chinalco is looking to use graphite as a substitute for petroleum coke and other forms of carbon”.

That is huge news. Not just for the proposed technology change in itself that will give graphite a huge boost, but if it is a success then you can imagine it will spread through other aluminium companies. (It also has implications for aluminium itself, one of the worst performing of the base metals. All smelter owners are looking to reduce costs, especially of electricity.)

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Thanks to Alcoa’s website concerning its smelter in Portland, Australia, we have a clear, concise explanation of these anodes used in aluminium smelting:

“Anodes are large carbon blocks which act as electrical conductors, allowing the smelting process to take place. Portland Aluminium produces around 15,000 anodes per month which weigh approximately one tonne each. Anodes are produced in an area of the smelter called the Green Mill and are made from petroleum coke, pitch and recycled anode butts returned from the smelting process. These materials are mixed together in heated containers and poured into moulds. Once formed, the anodes are transferred to the carbon bake. In the carbon bake, the anodes are placed in furnace and ‘baked’ up to a temperature of 1120C over a period of two weeks. The baking process bakes the pitch in the mix forming a solid block of carbon so they can withstand the extreme conditions inside the smelting pots”.

But molded carbon anodes are already being made using artificial graphite, which is derived from coke with a binder. This process is used in plants making chlorine, aluminium and silicon.

Chinalco’s move is also significant in that Chinese flake production has been hit by environmental problems. As reported here in December, at Pingdu, Shandong province, 55 companies (mine operators and processors) were closed. Pingdu can produce 100,000 tonnes a year of flake graphite.

Syrah itself was well aware of the overall Chinese problem more than a year ago after sending a team to China. Their conclusion: Chinese producers do not have enough flake graphite in low-cost, accessible areas to meet the expected growth in global demand. Environmental rule-tightening had already led to some 200 mines closing.

Syrah concluded that China’s domination resulted from its relatively low costs, labour particularly, which have enabled the country’s miners to undercut non-China producers.

Environmental rules are cutting back production of graphite in China, negating in those cases the advantage of low labour costs. Companies like Chinalco clearly now have no option but to look elsewhere.

Comments

Islay

Robin Bromby has shrewdly picked up on the the really important part of this story – which is that the traditional graphite markets are almost irrelevant. The real opportunities for Syrah, and its enormous Balama deposit, lie outside the traditional graphite applications, and in the broader carbon market – which is at least ten times larger.

Previously, no graphite company could contemplate entering the market for carbon anodes and electrodes – nobody had a resource big enough to hope to supply a significant portion of the world demand.

Enter Syrah, at Balama.

The first offtake agreement signed, with major Chinese aluminum producer Chinalco, has changed the world graphite picture, probably for many decades to come. Snowden Cosultants, in a Scoping Study (roughly equivalent to a PEA), have estimated Balama mine-gate costs at about US$102 per tonne. Lower graphite prices will seriously wound, and possibly cripple, many of the current (and would-be) producers, while having relatively little impact on Syrah, with such very low mine-gate production costs.

Thus, Syrah will be able to, very profitably, sell at prices which are at, or below, production costs for many graphite miners. Why? Because they are fortunate enough to also have substantial amounts of vanadium in the orebody, which separates cleanly at the first flotation step, and which can all be sold at the world price.

This first offtake agreement, even though it is the largest yet announced in the world, is no more than an indicator of what is yet to come. A huge expansion in the world graphite market, as these newer applications become the norm, will probably be accompanied by a significant drop in world prices, and could result in something of a shakeout in the industry.

We can expect to see more offtake agreements from Syrah in the coming months, which could make things very difficult for any graphite producer with production costs more than US$400 per tonne.

Also, what was not stated is that Calcined petroleum coke sells for much lower prices then flake graphite. (USD 200 to 400/MT) Which are the total cost to take the graphite to Chinalco? We also know Natural Flake graphite can not be use as a replacement in the key markets for Calcined petroleum coke (Making Aluminum Anodes and as a reducing agent in making Tio2) Anode.

Let’s calculate the Net profit if the offtake is signed and Syrah starts production for Chinalco:
Transportation costs=100m
Mine-gate costs=100m
best case scenario= (400-200)*100,000=20mn for half of expected production
syrah market cap=470mn
2016 P/E=23x

why is syrah aiming for the lowest margin product range?
this potential offtake is really bad news for investors. If Syrah is willing to commit 50% of expected production in a such low margin market

by the way please note the word “expect”
“the Chinese group “expects”….”

Paul, I suspect that you have hit a wrong key on your calculator.
There is a factor of 10 error in your calculations.

Mine gate cost is $100 per tonne of graphite, so for 100K tonnes, cost is $10m, not $100m as you have stated.

Similarly, transport cost for 100K tonnes at $100 per tonne is $10m, not $100m as in your post.

It is also quite nonsensical to try to produce a PE for the company, based on the assumption that the first order received will be the ONLY one! Or that all orders will be for the same grade of product, at the same price. Sure, the sheer size, and very low production cost, of the Balama deposit gives Syrah a range of options that are simply not available to nearly any other graphite producer, but that does not mean that all product will necessarily be sold at a low price for the production of anodes.

Could I politely remind Paul that it is still fifteen months until full production is scheduled to commence?

Calculations are fine. 20mn$ of net profit for half of expected production. You pay attention to silly things to avoid the main point. You try to twist things to make people think that the 20mn net profit for half of expected production in the best case scenario is wrong. But it is not.Its obvious that I wrote “m” instead of “$”. I think any person with an average IC could see that.

So why the All Mighty Syrah is willing to sacrifice half of expected production for the lowest possible margin? Can’t they sign a deal for flake? For me these are no good news at all if I were an investor.

P/E 23x is totally accurate. PE equals market cap divided but net earnings. So far, the only “potential” source of net income is this deal is 20mn$, PE at 23x is fine. Everything else is speculation. Investors at pet.com during the .com bubble also made calculations similar to yours. So the current market cap of the company gives you an idea of the kind of expectations priced in at the current levels.

Finally, do you remember these words you said in this forum? “They are due to commence production late 2014…”. Now you say its 15 months from now, June 2015. Whats next?

March 8, 2014 - 11:12 AM

Islay

Paul has misinterpreted my summary of Syrah’s Balama development schedule as a significant slippage. Sorry, I was just trying to be brief.

The information supplied at the AGM in November states:

Commissioning from December 2014 with a three month period to ramp up processing plant.

Production Q2 2015.

it’s hard to read this as anything but a confirmation of the initial schedule published nearly a year ago. As demonstrated with the recent Chinalco announcement, Syrah seem to be consistently hitting their schedule targets.

Yeah….. Everyone will put all their eggs in the one basket. The country does have a risk and civil war is still a very real possibility. I’ve seen correction after correction in announcements, and directors come and go in Syrah . It would make me happier to see them read their own reports first before having to issue corrections due to rushing everything out the door.
I agree this is good for Syrah and pleased for them and helping increase the demand for graphite but the claim from the earlier post to smash the graphite price down is a bit naive. There are many different uses and therefore gradings and purities in graphite and increasing uses for graphite. Graphite is not traded like other metals and materials as of yet and from my own experience MOU’s are hardly worth the paper there written on – they can pull out at anytime!
Good luck to all investing in graphite, but most importantly do your own research 🙂

Great to see such a lively discussion! I know that the issue of Syrah and its project usually generates some comments, but allow me to pull this back to the bigger picture here (for graphite, rather than Syrah).

1. The aluminium situation. The use of graphite in anodes comes at a time when China is building a new aluminium industry in northern and western provinces, particularly Xinjiang, based on the ready availability of thermal coal for power generation. Chinese authorities recently estimated Xinjiang had about two trillion tonnes of coal. China is aiming for aluminium self-sufficiency. So this development is far bigger than Syrah — or Chinalco, for that matter.

But power costs are a big issue throughout the industry — and may become even more so. London Metal Exchange warehouses at the moment contain 5.3 million tonnes of aluminium, and then add on whatever sits in non-LME warehouses. Vast quantities of aluminium are tied up as collateral in financing deals; if holders begin to liquidate their holdings (as was thought possible two years ago) it could have a devastating effect on aluminium prices and the premiums now being paid for physical supply. We are now seeing fear take over in the copper market as traders see similar financing deals using the red metal perhaps fall over. If prices drop, production costs (and with aluminium that is electricity and even more electricity) will be vital.

2. Mozambique and political risk. Yes, that is a factor but — considering Africa’s post-independence instability — we have seen relatively few mining dramas. Sure, Burkina Faso and Ghana have looked at hiking their share of mining profits but then so has Australia. But, as one reader noted, of course you cannot have all your eggs in one basket, which is why Syrah cannot dominate global supply.

3. The anode story followed close on the heels of Tesla and its new battery plant plans. These two events alone will see a tremendous boost in graphite demand. There are plenty of other developments in the works. But, as William Goldman famously said about Hollywood and its ability to predict box office success, “nobody knows anything”. As I have said many times, who in 1993 was factoring in iPhones to their long-range forecasts?
And then there is the scandium-effect: companies have held off developing new technologies because they can’t count on getting more scandium (yet); the assumption is that supply will need to lead demand. With every graphite development, there will be someone looking to take the technology one further step. No one knows where this will end up.

In an interesting follow-up, with important industry implications, Syrah have just announced an upgraded resource figure for their “Mepiche Zone”, which is part of the eastern section of the Balama deposit.

The new resource estimates, for both graphite and vanadium, are very large, but the really telling point, for the graphite industry, comes in a little paragraph on Page 2. It says:

“In recent months, Syrah has been using a 13% TGC cut-off, which, in Syrah’s opinion, better reflects the current market dynamics for graphite. As such, Syrah will be using a 13% cut-off for this and future announcements.”

A 13% cut-off? That’s better than the AVERAGE grade for most graphite miners. What message will this send to graphite buyers? And to the bankers, who are asked to fund prospective graphite mine developments, anywhere in the world? What criteria will they use to evaluate future proposals?

When these changes are added to the considerable increase in supply as a result of the development of the Balama mine, this opens up a new vista in that bigger picture, to which Robin Bromby has drawn our attention, in such an effective way.

Custom carbon nanotubes (graphene) can be catalyzed using rare earth oxides. I just googled it. I think we’ll be seeing more of these intersections in material science. A dysprosium ion inside a fullerene cage is bound to do something interesting nobody has figured yet. I just googled that as well. Up until a few days ago, graphite demand forecasts didn’t figure on aluminum smelting in the mix and these sort of surprises shouldn’t be all that surprising. In any event, demand is going up for these technology metals in ways that aren’t invented yet. Can you imagine organic graphene chemistry? I’m gonna google that. Yep, they’re doing it already.